Summary On one hand, HUT's Bitcoin production declined more than 50% over the past 2 quarters due to energy woes. On the other hand, HUT's mining capacity has remained constant since 2021 while competitors expanded aggressively. Reliance on mergers (external growth) to solve energy woes and capacity growth does not instill investor confidence in HUT's ability to meet guidance and expectations. HUT's pre-merger attraction diminishes along with the merger by being one of the smallest (by capacity) to join the billion-dollar valuation club. CLSK remains the most attractive Bitcoin mining company when compared to RIOT, MARA, and post-merger HUT (even under optimistic expectations). Introduction The theme of our past 4 theses on Hut 8 Mining Corp. ( HUT ) has been about cost inefficiencies. 3 quarters after our last coverage, our theses remained intact as HUT continued to suffer even more operating setbacks since then. In light of HUT's recent potential all-stock merger with US Bitcoin Corp, we aim to revisit our HUT investment thesis to prepare for the potential 2024 Bitcoin bull market. HUT's Reliance on Unpredictable External Growth HUT's expansion plans faced a major setback in 2022. In Q2 2022, HUT guided investors that it will have 6 EH/s mining capacity by the end of 2022 (Figure). In Q3 2022, HUT's projected end-of-2022 capacity was revised lower from 6 EH/s to 3.5 EH/s . In Q4, HUT was silent on its expansion plans. It is not until HUT announced an all-stock merger with US Bitcoin Corp that HUT can provide proper guidance on year-end capacity (7.02 EH/s post-merger) in 2023Q1. To us, this series of events isn't particularly reassuring of HUT's ability to meet guidance and expectations. Other Bitcoin mining companies such as Riot Platforms ( RIOT ), Marathon Digital Holdings ( MARA ), and CleanSpark ( CLSK ) provide clear-cut projections and demonstrate commitment and the means to realize their projections through predictable internal growth rather than unpredictable external growth (e.g. merger). For instance, CLSK exceeded its 6 EH/s projected 2022 capacity and is on track to 16 EH/s by the end of 2023. We showed that CLSK is likely going to raise an additional $100mil capital through 24% shareholder dilution (equity offerings) to fund its expansion. It remains to be seen how HUT will expand through internal growth post-merger. Figure 1. HUT's Failed To Achieve Its 2022 Guided Milestone (HUT) The Energy Crisis We Warned About In addition to operation expansion, HUT's existing mining operation also suffered major setbacks. In 2022Q4, Bitcoin production dropped 40% due to energy disruption at its North Bay facility. HUT has filed a lawsuit against its energy provider, Validus, alleging that the provider failed to meet contracted energy delivery. However, Validus denied HUT's allegations alleging HUT failed to make related payments. There is no telling how long before this issue can be addressed. Even without third-party unsystematic risks, HUT also suffered from systematic risks derived from higher energy prices. In 2023Q1, Bitcoin production dropped another 32% due to electrical issues at its Drumheller Facility. HUT explained : The electrical issues at the Drumheller site have been compounded by high energy rates which further increased curtailment at the site. This statement aligns with the Canadian Electric Power Selling Price Index (Figure 2) where energy costs peaked in 2023Q1. Figure 2. Canadian Electric Power Selling Price Index (Statistics Canada) HUT's Energy issues weren't new. In 2022Q2, we published a piece where we warned our readership saying: HUT's operating cost per BTC (excluding depreciation) in Q2 is $20,200, up from Q1's $13,800. This implies that HUT was operating at a loss when Bitcoin traded below $20,000. Hence, there is significant risk of halting operation should operating loss (mainly cash expenses) eat into its cash position faster than cash raised through issuing new shares (dilution). During the quarter, HUT's operating cost increased by 50% QoQ which HUT attributed the operating cost increase to higher energy prices. Therefore, It is no surprise that HUT had to halt certain operations in 2023Q1 considering energy prices had been increasing since 2022Q2 (Figure 2). Should energy prices stay elevated, HUT will risk more operation disruption in HUT's mining operations. According to Coindesk , the US Bitcoin Corp merger will provide HUT with access to cheap energy. It also remains to be seen whether it is sufficient to solve HUT's energy woes. Valuation HUT is currently valued at about $1bn post-merger with 7 EH/s capacity. Prior to HUT's operation disruption in 2022Q4 and 2023Q1, HUT's total mining cost per BTC is about $40,000 (Table 1). Assuming a $1bn valuation, 7 EH/s projected mining capacity, 9,233 Bitcoin reserves valued at $27,000 per Bitcoin, a 5x earnings multiple, and optimistic cost improvements, our model suggests that Bitcoin has to trade above $62,000 to justify HUT's $1bn valuation post-merger. Post-merger, HUT will join RIOT and MARA in the billion-dollar valuation club. However, HUT will also become a Bitcoin mining company with one of the least mining capacities to do so. RIOT and MARA are projected to have 12.5 EH/s and 23 EH/s mining capacities respectively by the end of 2023 while HUT will only have 7.05 EH/s. On the other hand, CLSK is on-track to 16 EH/s capacity by the end of 2023, more than double HUT's 7 EH/s. At the same time, CLSK is priced at only $428mil, less than half of HUT's $1bn valuation. In comparison, Bitcoin has to trade above $67,915 and $50,737 to justify RIOT's and MARA's current valuation respectively. This implies that HUT could have more upside than RIOT if HUT can solve its energy woes through the merger. On the other hand, CLSK is already undervalued at $27,000 per Bitcoin as CLSK is already trading below adjusted net asset value. Therefore, CLSK appears to be the most attractive among the 4 mining Bitcoin companies while our model views HUT as only more attractive than MARA under optimistic expectations. Table 1. HUT's Historical Total Mining Cost Per Bitcoin QR((CY)) Total Mining Cost per Bitcoin 2023Q1 70,900 2022Q4 59,900 2022Q3 44,800 2022Q2 49,500 2022Q1 40,748 2021Q4 40,168 2021Q3 27,709 2021Q2 34,659 2021Q1 38,604 Source: Author Verdict In this article, we discussed HUT's energy woes and worrisome growth trajectory. HUT's merger with US Bitcoin Corp does provide a slither of hope to address these issues. Assuming this merge can address HUT's energy woes, HUT is better valued than RIOT. Even so, MARA and CLSK are both better valued than an optimistic HUT. HUT's pre-merger primary attraction was derived from its massive Bitcoin reserves. Unfortunately, this attraction will be diminished because HUT will no longer trade below adjusted net asset value post-merger. At the same time, HUT will be joining the billion-dollar valuation club with one of the smallest mining capacities. For these reasons, we recommend CLSK over HUT. Else, we recommend following our Bitcoin strategy, outlined here .
